POLICY RESEARCH WORKING PAPER 1280
The Economic Imp act Expon controls can transfer
significant profits from raw
of Export Controls materials producers to the
procesSIn industries, causing
significant net losses to an
An Application economy and a
to iNIongolian Cashmere net decrease in export
and Romanian Wood Products earnings.
Wendy E. Takacs
The World Bank
Policy Reseach Deparmnent
Trade Policy Division '
March 1994
| POLICY RESEARCH WORKING PAPER 1280
Summary findings
Countries sometimes use export controls on raw She finds that (under reasonabie assumptions about
materials to encourage domestic processing. The elasticities of supply) export controls can transfer
motivation is usually to assure raw materia!s at low significant profits from the raw materials producers to
prices for domestic industries, although exports arc the processing industries, causing significant net losses to
sometimes controlled in an attempt to increase export the economy and a substantial net decrease in export
earnings (by promoting exports of higher value-added earnings.
processed goods rather than raw materials). Quantitative export controls will be even more
The problem is, export controls hurt raw material distortive if processing industries have any monopsony
producers and cause economic distortions that result in (single-buyer) power. This is quite likely in developing
net losses to the country. The impact of raw material countries with small industrial bases - or in economies
export controls on total export earnings is ambiguous: in transition, where central planning has left a legacy of
the decline in raw material exports when production is very large firms in highly concentrated industries.
discouraged by lower prices may outweigh the effect of With monopsony power in the processing industry,
increased exports of processed goods. both output and exports of final products can be reduce
Takacs develops a simple partial equilibrium model of by quantitative export controls on raw material inputs.
export controls on raw materials to investigate the The quantitative control bestows effective monopsony
impact of export restrictions and to estimate the power on the processing firm and encourages it to
potential magnitude of the transfers bet-:en groups and exploit this monopsony power by reducing output. If the
the net costs of the export-control regimes. raw materiAls could be freely exported, processors would
Her estimates of the magnitude of transfers and costs not be able to effectively exercise monopsony power.
of export controls on raw cashmere (in Mongolia) and
wood products (in Romania) indicate that the transfers
and costs may be substantial.
Thispaper-aproduct of theTrade Policy Division, Policy Research Department-is asynthesis of background material prepared
for the joint UNDP/World Bank Trade Expansion Program which provides technical and policy advice to countries that want to
reform their trade regimes. Copies of this paper are available free from the World Bank, 1818 H Street NW, Washington, DC
2;,433. Please contact Minerva Patefia, room N10-013, extension 37947 (27 pages). March 1994.
The Policy Research Working Paper Series disseminates the findings of work in progress to encourage the exchange of Ideas about
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Produced by the Policy Research Dissemination Center
The Economic Impact of Export Controls:
An Application to Mongolian Cashmere and Romanian Wood Products
by
Wendy E. Takacsi
Department of Economics
University of Maryland Baltimore County
Baltimore, Md. 21228 USA
and
Trade Policy Division
Policy Research Department
The World Bank
1818 H Street, N. W.
Washington, D. C. 20433 USA
I. Introduction
Export controls on raw materials have been used by countries to encourage domestic
processing activites.2 Such controls can take the form of complete prohibitions on exports, export
quotas, export licensing requirements, or export taxes. They are usually motivated by a desire to
assure raw materials at low prices for domestic processing industries, but other stated purposes
include preventing exporters from selling without a letter of credit from the importer or selling at
prices considered too low. Export controls on raw material are also jusfied as a method of
increasing export eaings by promoting exports of higher value-added goods rather than raw
materials.
Export controls on raw material or inrmediate inputs increase the effective rate of protection
to the processing industries by lowering input costs. But they create costly distortions and efficiency
losses and they benefit owners of processing facilities at the expense of raw materials producers.
The purpose of this paper is to develop a simple partial equiiibrium model of export controls on raw
materials to investigate the impact of the restrictions and generate rough estimates of the potential
magnitude of the transfers between groups and net costs of the regimes. Section II develops a model
that links the markets for material inputs and final goods under the assumption of competitive markets
for inputs and outputs, indicates the nature of the transfers and net costs generated by export
restrictions on inputs, and indicates a method for calculatng estimates of the size of the transfers and
costs. Section m applies the model to two case studies: export licensing requirements for raw
cashmere in Mongolia anl export prohibitions and quotas for wood products in Rom-ii. Section IV
then extends the analysis to a monopsonistic market structure in the final goods industry. A
monopsonistic processor of raw materials may be a relevant market structure for developing countries
that lack a broad industrial base and for transitional economies in which central planning led to high
industry conentation, and thus a single processor or small mnmber of buyers of certain raw material
inputs.
2
II. Raw material export controls with perfectly competdve markets
Suppose that a raw mal hiput, I (such as raw cashmere) is used as in input into the
production of a final product, F (such as cashmere sweaters). Suppose also that the country under
consideration is small, so that it cannot influence the price of either the raw material or the final
product in world markets.3 To ease graphical presentation and link tie markets for Inputs and
outputs, define units of input so that one unit of Input is required to produce one unit of output.4
The perfectly competlt!ve processing industry is willing to process more inputs into output the higher
the value-added per unit In processing:
QS . S (PPr (1)
where Qs is the quantity of final product supplied, PF is the price of the final good, PI is the price of
the raw material input and PFPI is the value-added per unit.
Suppose that demand for the final good within the country depends upon the price: s
d = D(PP) (2)
Net exports of the finished product wiUl be the difference between the quantity supplied and
the quantity demanded:
XF QP O QF (3)
Suppose that the raw material is produced by a perfectly competitive input industry and that
the quantiy of the raw material input supplied depends on its price:
Qf = S1 (Pr) (4)
Suppose that the raw material is not demanded in the domestic market except as an input to
3
the final goods processing industry. This assumption, along with the definition of the 'units' of
input, implies that:
ox' - Or' ~~~~~~(5)
Exports of the raw material will be the difference between the quantity supplied and the
quantity demanded as inputs by the domestic industrr:
x- ' QU - Qz - St (P1) - ( FPP ) ( 6 )
The equilibrium in this model under free trade is shown in Figure 1. If there were no trade
restrictions, the domestic prices of both the final good and the raw material would be equal to .ieir
prevailing world market price. The supply curve of processing as a function of the value-added is
shown in the upper panel of Figure 1 by the curve S(V). The height of the curve Is the value-added
per unit of final good produced, V. Tho processing industry's supply curve of the final product under
free trade, Sp*, would lie above S(V) by the raw mateial Input costs per unit, Pf. The demand
curve for the product is Dp. The upper panel of figure 1 shows the market equfilibrum for the final
product under free trade. If the world market price of the final good were Pf, the world market
price of the input were Pf, and there were no trade rerictions, the quantity demanded would be
Dp*, the quantity supplied by the processing Industry would be QP*, and Qp*-Dp* (= Xp*) would
be exported.
Ihe market for the raw material is shown ia the lower panel of figure 1. The units along the
horizonta axis measure the quantity of "packcages" of inputs, where each 'package' represents the
inputs needed for one unit of output The price measured along the verdcal axis is likewise the price
per 'package' of inputs. The domestic raw materis industry supply curve is shown by SI. If the
price of the raw materia in the world market were PT, the domestic raw materials industry would
4
produce an output QI*. At this price of the raw material, the domestic fnal goods processing
industry supply curve would be Sp*, the output of final goods would be Qp. and the demand for
raw matedals on the part of the domestic processing Industry would be D*. ITe quantity exported
woulti be XI* (=Qi*-DI*). Export earings from finl goods exports would be PTXp* and export
earnings for raw materis exports would be PTXi*.
Suppose that the govrnment now controls exports of the raw matera by imposing an export
quota that allows no more than a maximum amoulat to be exported6. Suppose this system is
enforced through an export licensing system. In terms of the model, the domestic price of the raw
material will no longer necessarily equal the world market price because producers are not free to
export. A biding quota restriction implies that the quantity of exports is given, and the domestic
price of the raw material input would be determined by equation (6) as the price at which the
difference between the quanity of raw matrial supplied and the quaty demanded would equal the
maximum amount allowed to be exported.
Given that the quantity demanded depends upon the output of the processing Idustry, and
given that the position of !he processing industry supply curve depends upon the price of the raw
materid, the new equilibrium would be determined jointly in both markets. As the raw material input
price falls due to the export restrction, input costs of the processing industry fil and the processing
industry supply curve shifts downward, or to the right. At a constan final product price, output of
the final product (and therefore the quantity of the raw material demanded by the processing industry)
increases. Figure 2 illustrates the new equilibrium after an export restriction liming raw marl
exports to Xi is Imposed. The price of the Ilput will sede at P?, where the quantity demnded
(equal to the quantity of final good supplied at the world market price P'y and Input price P? plus
XI) equals the quantity of input supplied along S1. The decline in the equilibrium raw material price
5
will reduce raw material production from Q% to QIn. n the final goods mnarkt, output Inereases
from Qp to Qp'.
The raw matewal eport reticdon hurts producers of the raw material ad discourages raw
material production vad exports, but increases profits of the procesing Industry, as well as production
and exports of the fiMlW good. lbe gains to the procesing istry and the losses to the raw material
produces, as well u the net efficiency losses from the restriction, can be Identfied and esimated. In
the market for raw matria, producer profits fail becaus of fahing prices. 3 loss in profits Is
usually identified as a los in wduceu surplus equa to area adge in the lower panel of figure 2.
Tho height of the raw material supply curve shows the marginal cost of producing each extra unit.
When price faUs to Pq, reveues decrease by area adrsge but costs decrease by only gdre, so net
Income declines by area adge. Part of this loss (area abfe=area hijkl consists of a ransfer from raw
materials producers to the processing industry in the form of higher profits due to lower Input costs.
Another part (area bcg) represe a transfer from raw materials producers to the recipients of export
licenses, who are able to buy the raw materal on the domestic market at P? and sell abroad at Pl.
The remainder (area cdg) is an efficiency loss because the extra units of raw matDrl Ql*-', which
would have been eported to earn Pf in the absence of the export restriction, would only have cost
an amount equal to the height of the supply curve to produce. With the export restrction, these extra
units of the raw material will not be ptoduced and sold abroad for more than the cost of producing
them. Area cdg thus represents a net effidiency loss to the country.
These transfers and efficiency losses can in principle be measured. The loss to producers of
the raw materil equas area adge:
6
Area adge - dP1 Qr + 2 dQ dPz
' dP QOr +x 2 Ox dP1 dPz
dPr Qr ( I + 21 Of AI) (7)
* dP2. Q (12 t ,e dP
V-.!Lx(1+ 1 SP)
Pz 2+ 2 PzV
Oxpl.+1 X2 Xp
Z 2 x r
whare cl (dQ/dP1)(PI/Q1) h the elascity of upply of the raw material, VI- PIQI the value
of raw materi producdon, dP1 (.P1P-P;?). dQ[ = (QQ)ad w = dPI/PI. rhe efficieny loss
area cdg will be equal to the last team of equaton (7).
The part of the loss to raw material producers that is transferred to export license recirients Is
area bcgf:
Area bcgf = dP1 X1 (6)
-if r
where Vf is the value of raw material exports.
In the market for the processed good, the processing industry gains area hild. The industry
marginal cost curve shifts downward from Sp* to SF' which reduces costs for each unit previously
produced and therefore increases profits by area hnkl. Profts also increase by the difference between
revenue and cosu for the exta units produced, area nik. From the point of view of the country,
however, the increase in domestic processing of the raw material creates an efficiency loss equal to
area min because the artificially low raw mateials price encourages the processing industry to expand
output beyond the point at which the price in the world market equals the true cost of producing the
final good, including the opportunity costs of exporting the raw material. Since SF* Is parallel to
Sp', but lies below It by (P -P;), area min = area ljL This part of the transfer from the raw
7
material producers is not a gain to the processing Industry, but i simply lost due t3 higher proeeing
costs.
Again, these transfers and costs can be measured. Tho gain to the processing industry is area
hikl:
Area hiki -Q, dP ^ 2 dO, dP*
uPzQ.A d Pz d s PzF dPP (9)
QFPz~ 2 et v PP* PZ PZ
-lvs-~ 1 ; 4X/ 2.4
where v is the value-added per Uuit of final product, ec = (dQSIdv)(v/Q#) Is the elasticity of supply
of processing with respect to the value-added per unit, dQp=(Q#-QF), =PI/Pp is the ratio of raw
material cost to the prce of the fial product, and VF = PpQF is the value of fnal good produced.
Note that with the fimn' product price unchanged, dvw-dP1. Ihe efficiency loss due to higher-cost
domesdc prcessing (area ijk) equas the second term in equation 9. I Information on prices and
quantities of inputs and outputs are available, the second step in equation 9 can be used for
calcuons, but the last step is more suitable when the only information available is from an input-
output table for the economy.
The welfare impact aid net efficiency losses are the appropriate criteria for judging the
beneficial or detrimental effects of the export restrictions. .rt so much emphasis has been placed on
using raw materil export controls to encourage higher-value-added exports and therefore export
earnings that we investigate in detail the impact of the raw material export controls on total export
revenue. Foreign exchange earnings from final goods exports inerease by P'F(Qp'-QF*). Raw
material exports fal from XI* to Xe, and export ening faU by P'Y(X1*-X1). Export earings from
exports of final goods increase, but earnings from raw material exports decrease because the quantity
8
exported decasea by the amolnt diverted to the domestic industry, D1'-D1 (-QF'.pF), plus the
decrese In production Q*-Q1' due to the lower raw material price. The not impact of the raw
material export restriction on told export eanWs is ambiguous
The change In total export earnings due to the export control on raw mateials would be the
difference between the increase in the value of final good exports ad the decrease In the value of raw
matrial exports. Given that XI-Qf -Qy and dQ? - dQl, the change the value of raw material
exports would be:
d(P'fXzl - Pz(dQj' - dQ°z]
-pf es r dpz _ ' - vt Pz dvl
px ~ 'r (10)
AlI, Q dPz 1A VdP1.
m P[erQz +4V,
* (1'i)erV1z *4V,+ epg V, ! (1+ ) a
Tho first term captures the decline in raw materisl exports due to the Sfll In producdon; the second
captures the decline in exports due to the diversion to domestic processing.
Holding domestic demand for the final good constant, and allowing for free exportaton of the
processed good at an unchanged world market price, the export restriction on raw mateials would
increase exports of the fnal good.7 The maitude of the increase in procesed good export
earnings would be:
P" dX, = Pr e ?,F dPr
pw PzUe dPt 11
V P
V, 5, b I
9
lherefore total export ears would change by:
dvx Vp4 1*x-[ (1.)edVw * 4 .t4) (14 e2):] +
v, at x U.- (1+X)*J -x (1+w) efv
Total export earinpgs wil increase if equadon (12) is positive but decrease if It s negaive.
The raw material export control is more likely to increas export earningp the greater the
value-added in processing (the smaller is 0), the greater the elasticity of supply of the processing
industry, and the smaller the elasticity of supply of the raw material, and the larger the processing
industry relative to raw material production.
Ii. Applcation to Mongolan Cashmere and Romanlan Wood Export Controh
This section applies the model in an attempt to quantify the impacts of two examles of export
controls on raw materials: the export licesing requirements for raw cashmere in Mongolia and the
export prohibitions and quotas on timber and other basic lumber products In Romania.
Mongolia has imposed export licensing requirements on a number of raw materials. As of
August, 1992, these included live animals, wool, raw cashmere, camel wool, sheepskin, goatskin, and
timber.8 Sufficient data were available to apply the model to raw cashmere. The values of the
variables that were used in equations 7 through 12 to calculate the magnitude of the transfers and net
costs associated with the export licensing arrangements, along with an explanation of the sources,
appear in Table 1.
The gains, losses, and net costs were estimated assuming varying degrees of responsiveness of
both raw material and final good production to changes in prices. The calculations presented use
10
combinations of elasticity ranges of from 0.5 to 1 for raw cashmere and 1 to 3 for garment
production.9 The results appear in Table 2. Of particular note is the result that the export controls
on raw cashmere appear to reduce total export earnings.10
Also noteworthy is the magnitude of the transfers. Because a large amount of raw cashmere
is exported, the impact of even the modest 16.6 percent price differental between the world market
and domestic price imposes large losses on herdsmen and allows large gains to those able to export.
The estimated losses of $5.5 to $7 million dollars would represent $5 to $7 per person to the
approximately 1 million people in the countryside. The rents generated from exporting are about $4
million.
As of March, 1993, Romania imposed export prohibitions or quotas on a relatively large
number of raw material and intermediate inputs. These included wood products that are inputs into
the furniture industry, stardng with logs, timber and firewood, up through lumber, plywood, particle
board, and veneer.11
Data on quantities and values of production and exports of aU the various products were not
available, but the 1990 Romanian input-output table separately identifies the woodworking and
furniture industries. Estimates of the impact of the export controls were based on the input-output
table, under the assumption that the woodworking sector represented production of inputs used in the
furniture sector. Equations 7 through 12 were used to calculate estimates of the magnitude of the
transfers and net costs associated with these export restrictions. The values for the variables in those
equations, and an explanation of the sources and reasoning behind them, appear in Table 3. The
resulting estimated impacts of the wood products export controls appear in Table 4.
Romania currentiy imposes restrictions on cutting of timber to protect the environment and
allow rebuilding of the timber stock. These restrictions can be interpreted as implying a zero
elasticity of supply of timber (and therefore wood products) in the short run. However, in the long
it
run additional planting and harvesting of timber would be possible, so estimates are presented using
both a short-run scenario, in which the elasticity of supply of raw material inputs is assumed equal to
zero, and the elasticity of supply of value-added in furniture production Is assumed equal to one, and
alternative long-run scenarios, in which the elasticity of supply of raw material input Is assumed to be
positive. To illustrate the sensitivity of the results to assumptions about the elasticities of supply of
wood product materlI inputs and furniture, the results of two alternative 'long-run scenarios are
presented, one assuming that both elasticities of supply equal one, and a second assuming a low
elastdcity of supply of wood products of 0.5, but a higher elasticity of supply of furniture production
of S.
The results indicate that the export controls on wood may impose severe losses on the wood
input Iustries. ho esatimated decreases in proft range from about 8 to 10 bilion lei per year. If
there is a nonzero elasticity of supply of wood, there are also efficiency losses In the wood market,
esimated here between 1 and 2 billion lei per year. The gain In tem of Increased profitability of
the furnitue industry is about 1.5 to 2.3 billion lei, while the etmated efficieny losses from
increased furniture production amont to 200 million to approximaely I billion lei Ibe result of the
wood inputs export controls are ambiguous and depend crucially on the elasicities of supply In the
two Industies. In the short-run scenario In which wood inpu production cannot respond to price
changes, the export controls increase total export earnings by approximately 2 billion lei. However,
in the first long-run scenario, auming equal elasticities of supply of wood products and furniture,
the discouraging effect of the export controls on wood production and the diverion of wood eWport
to furniture production decreases wood input exports by almost 14 billion lel, whie furitre eworts
increase by a much smaller amnt. The net result is a decrease in total export eamings from wood
products and furmIture of over 10 billion lei.
12
Raw material export controls with monopsonlstlc procsor
The analysis so far has assumed that the markets for both inputs and outputs are competitive,
that is, contain a large mnmber of both buyers and sellers. In many cases of raw material export
controls, the assumption of a large mumber of producers of the raw material may not diverge too
much from reality, but in many cases there may be one or only a few processors, which creates a
vmonopsonistic (single buyer) market structure in the raw material marcet. Whether a monopsony Is
able to exercise monopsony power depends crucially on the intenatonal trade policy in effect. If the
raw materials processed by these firms can be freely exported, then these processors may not be able
to effectively exercise monopsony power. They will have to compete with potential exporters of the
raw mterals and will be forced to pay the world market prices for their inputs. On the other hand,
if the inputs cannot be exported or if exports are limited to predetermined quantities, then the
processors will be able to control the price of the raw materials through their purchasing decisions. A
relevant quesdon may very well be whether a monopsonistic market structure changes any of the basic
conclusions above with respect to the impact of export controls of the raw material.
The dmination of prices, production, and exports of raw materials and processed products
in the case of a monopsonistic market structure in the absenc of any export restriction is illustrated in
Figure 3. As in the previous figures, the upper panel represents the market and production
conditions for the final product and the lower panel the market and supply conditons for the raw
material WpuL In the upper panel D represents the demand curve for the final product and MC(V)
represents the marginal cost for factors of production oaU the raw matial Input. Ihe extra
cost of an extra 'unt of raw matal input must be added vertically to MC(V) to obtain the
marginal cost of production curve MC. If the world market price of the input is Pt', and exporters
are free to export at this price, the processor will also have to pay Pt', and the marginal cost curve
for the processor will be MC as shown in the upper panel of figure 3. If the world market price of
13
the flnal product Is P'F, then the processor would maximize profits by producig at an output level of
* 12 The quanty of the final good exported would be XF* the difference between Qp and
DF*. The value of export earnings from final product exports would be the area abcd In flure 3.
In the input market, the processor would demand D1* unit of input, the producers would
supply Ql at the price Pf, so the quantity exported would be Xi* (=Q1*-D*). Earnings from
exports of the raw material would be P'XI *, equal to area efgh.
Compare tdis outcome with the resulting prices, production and export earnings If exports of
the raw material are limited by some form of quantative export restriction, such as a restrictive
licensing system, an export quota, or an export ban or embargo. The analysis is developed in the
form of an export ban because it Is the simplest to illustrate and Mongolia has banned exports of
certain raw materials at tmes in the past. The results woud be similar with other forms of
quantitative export restrictions.13
A ban on exports of the raw material input implies that the single processor faces the upward
sloping supply curve of the raw material input SI. Ihe greater the output of the processor, the more
raw material purchased, and the higher the resulting market price of the raw mateial. Because the
processor would drive up the market price for aUl unit of the inputs used, not just the last unit bought,
the extra cost of an extra unit of input to the processor will exceed the market price. A curve
showing the extra cost of extra units of input, labeled MCI in the lower panel of Figure 4, can be
derived from the input supply curve SI.14 After the restriction on the exportation of thc input, the
marginal cost of the final good would be MC'. It is derived by adding MC, to MC(V). The
monopsonistic processor can still sell in the world market at P'Y, so the processor's profits would be
maximized at Qp', the output level at which the world market price equals the marginal cost of
production. In the case illustrated in Figure 4, this would be at a lo output level than without the
export ban. The processor reduces output because lowering output reduces the demand for the input
14
and reduces his cost for the raw material Inputs. As shown in figure 4, when only one profit
maximizing processor buys a raw material on the domestic markt, an export ban on the raw matial
eliminates exports of the raw material, and can decrease production and exports of the final good. In
this case, IgtaI export earings from both the fnal product and the raw materiS must decrease.
Figure 4 illustrates the case In which total export earnings fail, but this result is not unambiguous. If
exports of the raw material are large relative to production of the final good, output and exports of
the fil good may increae. i
As In the competitive industry case analyzed first in this appendix, the export ban will reduce
real income or profits of the raw material producers and increase the profits of the processing
industry. Revenues of the raw material producers fall from efgh to ijkh. Revenue from raw material
exports wiU fall by lfgk. Of this reduction in export revenue, 14 represents a net loss to the country
because it is the difference between export revenues lost and the incremental cost of producing the
quantity that would have been exported in the absence of the export ban. Area elji represents a
transfer from raw materials producers to the processing firm.
CONCLUSIONS
Export controls on raw materials reduce raw material prices to domestic processing industties
and encourage domestic processing, but hurt raw material producers and cause economic distortions
that result in net losses to the country. Exports of raw materials are sometimes controlled in an
attempt to increase export earnings by promoting exports of higher value-added processed goods
rather than raw materials. However, the impact of raw materil export controls on total export
earnings is ambiguous; the decline in raw materia exports when production is discouraged by lower
prices may outweigh the effect of increased processed goods exports.
Estimates of the magnitude of the transfers and costs of export controls on raw cashmere in
15
Mongolia and wood products in Romania indicate that the transfers and costs involved may be
substantial. These estimates are designed to be illustrative rather than definitive, because no esdmates
of actual supply elasticities in the raw material and processing industries in these countries are
available, so the estimates are based on a range of assumed values for these elasticities. Despite these
caveats the calculations do indicate that in both these eases the export controls, under reasonable
assumptions of elasticities of supply, may transfer significant amounts of profits from the raw material
producers to the processing industries, cause significant net losses, and result in a substantial decrease
in export earnings.
The impact of quantitative controls on exports will be even more distortive if processing
industries have some degree of monopsony power, which is quite likely in developing countries with
small industrial bases, or economies in transition where central planning has left a legacy of very
large firms in highly concentrated industries. WitlA monopsony power in the processing industry,
both output and exports of final products may be reduced by quaniative export controls on raw
material inputs, because the quantitative control bestows effective monopsony power on the processing
firm and encourages it to exploit this monopsony power by reducing output.
16
ENDNOTES
1. This paper is based on research for the UNDP/World Bank Trade Expansion Program reports
for Mongolia and Romania. The author thanks Jaime de Melo and Arvind Panagariya for useful
comments on a previous draft. The views are those of the author, not necessarily those of the
United Nations or of the World Bank.
2. In England Elizabeth I banned the exportation of vwool fleeces in the 16th century to encourage
the textile industry. Other modern examples include Uruguayan prohibitions on exports of raw
hides. Many countries currently undertaking the transition from central planning to a market
economy also control raw material exports.
3. For Romanian wood products this assumption is reasonable. In the case of cashmere, however,
Mongolia may have the ability to influence world market prices. Published estimates of
Mongolia's share of world raw cashmere production range between 10 percent (Browne, 1990)
and 2025 percent (Economist Intelligence Unit, 1991). Mongolia exports both raw cashmere and
knitted cashmere products, so higher world market prices for raw cashmere increase export
earnings directly and also indirectly by increasing the costs of competing firms in the market for
knitted cashmere products. For an analysis of the potential welfare gains from exploiting market
power in world raw material markets when a country also exports the final product, see Jones
and Spencer (1989). Including market power in world markets in the model would be a useful
extension of this paper.
4. This approach is based on Corden (1973, pp. 30-35). Suppose that the processing industry uses
et inputs to produce one unit of output. Then each "package" of cm inputs woid be a "unit" of
inputs. For example, if 10 ounces of raw cashmere were used to produce a sweater, then a 10-
ounce ball of raw cashmere would be one "unit" of input. If the price of an ounce of cashmere
were $1.00, then the price of a "unit" of input would $10.00.
5. Income is omitted as a determinant of demand because of the partial equilibrium assumption.
6. The limit case of a complete ban on exports of the raw material would be analyzed as a zero
quota.
7. The increase in exports may be underestimated in the partial equilibrium framework used here
if income feedback effects are important. Lower real incomes due to the efficiency losses could
reduce domestic demand for cashmere products, which are presumably luxury goods. On the
other hand, lower income may reduce imports and therefore exports through balance of payments
or exchange rate effects.
8. This list is based on information from the License Bureau, Ministry of Trade and Industry.
Exports of other products also were subject to license: scrap copper, scrap iron, scrap aluminum,
scrap aluminum alloy, scrap steel, meat, wheat, children's clothes and shoes, and imported
17
9. Elasticities of supply of processing with respect to value-added of up to 10 were tried, but
elasticities of over 3.4 resulted in such large estimated impacts on processing that output would
have become negative In the absence of the export controls. The large impact on processing
stems in part from the high ratio of the price of raw cashmere input relative to the price of
finished garments. Raw cashmere cost Is over half the price of the finished garment, so a drop
in the price of raw cashmere at constant final good prices represents a larger percentage increase
in the value-added per unit.
10. With a smaU elasticity of supply of raw material and a large elasticity of supply of processing
(e!=0.5;e;= 10), export earnings increased by a relatively modest $80,608, achieved at an
estimated cost of $718,186 in deadweight efficiency losses. This case is not reported because the
estimates at these high elasticity levels indicated that output would decrease so much that it would
become negative, which would result in nonsensical calculations of transfers.
11. Order No. 120 of 31 July 1992 prohibited the export of logs, rafters, lumber, railway sleepers,
Christmas fir trees, firewood, wood for cellulose, fiberboard, timber, wooden paUets and
veneers, and imposed the following quotas:
Produt Ouant
Beech-tree plywood 50,000 m3
Panels 1,300,000 m:2
Beech-tree parquet 500,000 m2
Chipboard 800,000 m2
Timber and semifabs 300,000 mn2
of resinous woods, beech
and softwoods
Door and windowframes 1,000,000 m2
12. This analysis presumes that the behavior of the processing firm is to attempt to maximize profits.
In a transitional economy such as Mongolia, it is not clear what the objective of firms that are
still state-owned actually is. As these firms become privatized and thus presumably responsive
to the shareholders' desire for high dividends or growth in share value, firms wiUl presumably
shift their objectives to profit maximization.
13. It is important to note that discouraging exports through an export ta will not give the
monopsonistic processor control over the domestic market price. The export tax wil lower the
input price, but exporters wiUl stil be free to export as long as they pay the tax, so price wiUl fahl
no lower than the world market price mims the tax. The export tax system will also yield
revenue for the government, rather than profits in the form of quota rents to exporters who are
able to obtain licenses.
14. The marginal cost curve of the input wiUl lie half-way between the supply curve SI and thb
vertical price axis. See Ferguson and Maurice (1979) or virally any other intemediate level
microeconomic theory textbook for an explanation of the analysis of monopsony.
18
15. MC' -uust cross MC at the output level at which MCI crossed a horizontal line of height P1W.
This poit (shown as point a) lies to the I& of Q* in the case shown in figure A.4.4). Because
MC' must be steeper than MC, the quantity produced by the processor (and therefore the quantity
exported with unchanged demand condition) must be lower. If the supply cunre had been much
further to the right (passing through b, for example) then MC, would have passed through point
c, MC' would have crossed MC at point d with a steeper slope, and output and exports of the
final good could increase. In this case the value of the extra exports of final good would have
to be balanced with the elimination of exports of the raw material to determine whether total
export eamings decrease or increase. Large exports of the raw material relative to domestic
production of the tinal good Increases the probability that there will be an increase in output
because point a will be at a larger output level.
19
REFERENCES
Browne, R.J. (1990). Cashmere Goat Notes Guilford, N.S.W.: Australian Cashmere Growers Association.
Corden, W. Max (1973). The nheorv of Protection New York: Oxford University Press.
Economist Intelligence Unit (1991). Luxiu Eibers EIU Special Report No. 2633 London: Economist
Intelligence Unit.
Ferguson, C.E. and S.C. Maurice (1978). Economic Analysis: Theory and plicatoig Homewood, In.:
Richard D. Irwin.
Jaakko-Poyry (1992). RomaWa-Private Sector Development and Enterurise Reform Project: Study on
the Wood-based Industries of Romania. Stockholm (November 6)
Jones, Ronald, and Barbara Spencer (1989). 'Raw Materials, Processing Activities, and Protectionism"
Canadian Journal of Economics 22:469-486.
20
Table 1
Variables Used in Calculations of the Impact of Mongolian Cashmere Export Licensing Requirements
P w $25.89/"package" Data provided by the large Gobi factory indicate that the factory took in
900 tons of raw cashmere, approximately 450 tons of which was
exported as greasy or dehaired cashmere, approximately 80 tons
processed for export as tops, and the remaining 370 tons used to produce
garments. This would imply that 370,000 kilos of unprocessed cashmere
was processed into 250,300 garments. The "package" of unprocessed
cashmere input per piece produced, on average, would be 1.48 kilos.
The unit value of unprocessed cashmere exports in 1992 was
$17.49/kilo: 1657.53 metric tons valued at US$28,986,430 (Ministry of
Trade and Industry). Thus the world market price of a "package" of
input would be US$25.89.
PF $35.05/piece Unit value of exports of cashmere garments in 1992: 142,190 pullovers
were exported valued at US$7,664,460; US$341,970 of "other
garments" were exported, but no quantity figures were available. Data
provided by the large Gobi factory indicated that they had produced
approximately 95,800 other garments in 1992, and approximately 90
percent of their output is exported. This would imply exports of 86,220
other garments. Thus an estimated 228,410 garments were exported
valued at US$8,006,430
.XI 1,119,953 Exports of unprocessed cashmere in 1992 were 1,657,530 kilos,
equivalent to 1,119,953 "packages" of inputs.
Qp 275,300 Large Gobi factory output of approximately 250,300 pieces, plus
estimated 25,000 of small Gobi factory.
Q, 1,395,253 Raw material outpu. measured in "packages" of inputs equals finished
product production plus exports of raw material
dP, $3.69 Data provided by the Gobi factory indicate that the price of unprocessed
cashmere in 1992 was 600 tugriks/kilo (at the official exchange rate of
40 tugrik/US$, $15.00/kilo) for unprocessed cashmere. This would imply
a domestic price of $32.40 per "package" of input, $3.69 below the
export price.
ir .166 Calculated as dP,/(Pw,-dPj)
10 0.633 Calculated as (Pw,-dPO)/PwF
E,M 0.5 to 3 5 Elasticities of supply of unprocessed cashmere and cashmere garments,
respectively.
21
Table 2
Estimated Impact of Mongolian Cashmere Export Licensing Requirements
(US dollars)
Elasticity of supply of cashmere 0.5 1 0.5
Elasticity of supply of garments 1 1 3
Loss to cashmere producers 5,362,424 5,576,364 5,362,424
Efficiency loss in cashmere production 213,940 427,881 213,940
Gain to garments industry 870,000 870,000 578,287
Efficiency loss in garments production 145,857 145,857 437,570
Decline in raw material export 5,048,857 8,050,979 9,142,326
Increase in garments export eanings 2,770878 2,770,878 8,312,635
Change in total export earnings -2,277,979 -5,280,101 -829,691
Transfer to export license recipients 4,132,627 4,132,627 4,132,627
Total efficiency loss 236,922 420,371 634,266
Increase in gannents production (units) 79,055 79,055 237,165
22
Table 3
Data for Estimation of Impact of Romanian Wood Export Controls
VI 16,959 Value of output of woodworking industry. (millions of lei) Data are
from the 1990 Romanian input-output table for the woodworking sector
(sector 32)
VI 20,868 Value of furniture output (sector 77 of 1990 input-output table)
(millions of lei)
tvx 230 Value of exports under quota of plywood, laminated board and
chipboard, all potential inputs for the furniture industry (millions of lei)
0.24 PI/PF, calculated from ratio of value of inputs of woodworking industry
into the furniture industry to value of output of furniture industry from
1990 input-output table.
r 0.5 (Pw,-P,)/P,, the percentage difference between the world and domestic
price of raw material inputs due to the export controls on raw
materials. A study of the Romanian wood-based industries by the
Swedish consulting firm Jaakko Poyry (1992) estimated that the prices
of wood material input costs for the furniture industry were far below
the prices in other countries. Input costs were less than half the costs
in the next-least expensive country, Poland. Costs of half the world
market price would imply a cost differential as a percentage of the
domestic price of 100%. Romanian critics of the Jaakko Poyry study
argue that it overestimates the wood price differential, and that 50%
would be a better estimate. The 50% figure is used here, but the
estimates of the costs and transfers would be even larger than those
calculated if the actual price differential is larger.
e,F 0 to 5 Assumed elasticities of supply
23
Table 4
Estimated Impact of Romanian Wood Export Controls
[hort run Lone run
Millions of lei 63=0 es-1 efrO.5
eg- ep eF5
Loss to wood indwutries 8,480 10,599 9,539
(area adge)
Efficiency loss in wood industries 0 2,120 1,060
industry (area cdg)
Transfer to export license 115 115 115
recipients (area bcgf)
Gain to furniture industry 2,306 2,306 1,516
(area hikl)
Efficiency loss in furniture industry 198 198 988
(area ijk)
Decline in wood exports 1,186 13,905 12,291
Increase in furniture exports 3,294 3,294 16,475
Change in total exports 2,108 -10,610 4,184
24
FIGURE 1:
Final good and raw materis marks: no trade Mecons
S*
F
pFW
. F
F !ADD
m .
D* ~ D Q,
F ~~~~F
I ~~~~~~St
pW _ _ _ _ _ _ _ _
0
a
I IA.
a a
h. *.
a - a
U. 0-
0 - -- 15
.1 .D 's-I
C%I I
I1J a I-- - - a
I
I
II
II
I
b
I I
I a
I I
I I
4 6S1p
IL
0. a
a. a
0~~~~~~~~~~~~~~0I
0~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
bt a
IL~~~~~.
I
n~~~S . Ii O
am - Zar
0 S~~~~~~~~~~~~~~~1
4 l- - - l - - - - - - - - -!
° 11 i _ -_-X -- ------1 /
x X)
\~~~~~~~~~~~~
100
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